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Briefing to the Incoming Minister of Finance 2008: Medium-term Economic Challenges

1  Business Productivity and Income Levels

New Zealanders aspire to living standards that compare with the best in the world. Whether we can achieve them will be determined largely by our economic performance. While we already enjoy high levels of non-income elements of living standards such as quality of life and life satisfaction, our incomes remain 30% to 40% lower than those of the leading OECD countries.

New Zealanders aspire to have living standards that compare with the best in the world

Lower per capita incomes ultimately constrain the wider factors that contribute to living standards: the quality and quantity of available goods and services, the quality of public services, the quality of the environment, the degree of economic security and the choices and opportunities available to all New Zealanders.

Economic performance underpins the wide range of factors that influence our living standards

Many of the issues identified here will improve the quality of people's lives directly as well as improving the environment for business. Charting a path through the current economic uncertainties will provide New Zealanders with greater security, while increasing the value-for-money of public services will improve social outcomes such as health and education. But further increases in our relative living standards will require a long-term commitment to raising our incomes and improving economic growth.

The difference between our incomes and those of the leading OECD countries primarily reflects our economy's productive capacity - how effective our businesses are at combining labour and capital - and the prices of what we produce. Higher productivity means producing more value with the same amount of labour - being smarter about bringing together people, equipment and ideas to develop products and services.

In the mid-1990s New Zealand's level of labour productivity was in the lower half of the OECD. Most other countries that were also in the bottom half of OECD have narrowed the gap in labour productivity over the past 10 years. New Zealand has not. The growth in New Zealand's relative income per capita has been largely supported by increasing participation in work. In future, further gains to growth from this source will be constrained by high average labour force participation, population ageing and slower labour force growth.

The most important constraint to higher economic growth is New Zealand's low productivity level

Over the past 15 years the gaps in relative GDP per capita have not narrowed and productivity growth in the measured sector has slowed

New Zealand's GDP per capita as a proportion of selected OECD countries
New Zealand's GDP per capita as a proportion of selected OECD countries.
Source: OECD
Productivity growth in the measured sector
Productivity growth in the measured sector.
Source: Statistics New Zealand

Future gains to economic growth will need to be driven by increases in productivity growth. Improving productivity will have benefits for individuals, businesses and for society as a whole. A more productive New Zealand will offer our people opportunities to earn world-class incomes without having to go overseas to achieve this. It will allow New Zealand businesses to provide sophisticated products to the world without having to relocate their head offices. Higher incomes will underpin a public sector that can provide high-quality services, which will lead to improved social outcomes in crucial areas such as health and education. Higher productivity will make New Zealand a more attractive place to live, work and do business with and from.

For government, this entails understanding the context our businesses are operating in and looking at how to enhance policy settings that affect businesses:

  • Section 2 looks at the opportunities and challenges New Zealand will face over the next 15 years.
  • Section 3 focuses on how well positioned New Zealand currently is to respond to these challenges.
  • Section 4 suggests broad policy directions that would improve New Zealand’s productivity over the medium term.

Increases in hours worked rather than productivity has contributed the bulk of New Zealand's economic growth

Growth in GDP
Growth in GDP.
Source: OECD

Significant trends are changing the nature of business around the world

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